BitBeat: Bitcoin, the Euro, and Currency Crises
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- The world's gaze has been fixated on Europe, and the debt crisis that threatens to tear apart the very symbol of a united Continent, the euro. This had some effect, on the surface at least, on bitcoin, which crested this weekend over $300 for the first time since March. But bitcoin has its own crisis brewing, and both offer valuable lessons on what makes a currency valuable--real, digital, or otherwise.
The outlines of the euro crisis are well-known, revolving around the question of Greece and her unsustainable debts, and how much her euro compatriots are prepared to backstop her. But it is far more a political than economic crisis. When people say the euro is irreversible, what they are really saying is that "Europe" is irreversible. The euro is part of a grand project to try and forge a common, shared identity among the Continent's historically squabbling nations. It was an attempt to jury-rig a community among disparate nationalities.
“The most important currency has been lost and that is trust,” German Chancellor Angela Merkel said on Sunday ahead of a meeting of eurozone leaders, and while there's sure to be massive debate about the role each leader has played, this comment rings true. Without trust, the euro project is doomed. Money, the author Felix Martin said, is a "social technology," a method of accounting that is agreed upon by a community of users and which binds them together. Whether it's backed by gold, software code, or empty promises, money is as strong only as the faith of the community. If there's no trust, there's no community. If there's no community, there's no currency.
"Trust is an easy thing to lose and a hard one to rebuild," Convergex strategist Nicholas Colas wrote on Monday, reflecting on the Greek crisis. If the euro is nothing more than a club that members can enter and leave as their tempers dictate, the permanence of the currency will vanish.
Most people are speculating that the connection between the Greece and bitcoin is that the latter somehow represents a solution to the problems of the former, or countries like Italy, Spain, or even France that may find themselves in trouble if the dominoes start falling. But the real connection, seems to us, is this issue of trust. Bitcoin is enduring its own trust crisis as well, a fact that is inconveniently ironic. The cryptocurrency is designed to be trustless, run by its own rigidly coded logic, backed by math and encryption that rendered third parties moot. However, even the best software needs humans to oversee it, and this is where bitcoin can't escape the trust issue. Bitcoin's crisis revolves around what seems an arcane, small matter: the maximum size of an individual block in the blockchain, the ledger at the heart of the system. But it's not a small matter.
The trick with bitcoin is that even though it's a decentralized system, it still needs somebody running it, and they need an incentive to do so. Satoshi Nakamoto came up with a novel solution: in exchange for confirming transactions and running the software that maintains the systems, users vie for a shot at newly minted bitcoin. It's a competitive, mathematical lottery that is lucrative enough to keep miners interested. But it's an expensive proposition, so expensive that it now takes enterprise-level operations to remain in the game. Altering the block size alters the rewards, and will make it too expensive for some of those players.
Apart from pure self-interest, though, opponents say if you knock out these players, the number of miners will be winnowed down, with the result that control will be concentrated into an even smaller group of players, essentially centralizing further a system that hangs its hat on decentralization. The trick is that you need the current clutch of miners to agree to and implement any software changes, and right now they are--selfishly and reasonably--resisting that.
Changing the block-size limit is technically simple, but the debate over it has opened a rift that is in its own way as gaping and nasty as the one over Greece. The fight has gotten acrimonious, and nasty, and it's happening in public view, on Twitter and Reddit and message boards. Trust is being eroded, and trust is the real currency of the community.
Email: paul.vigna@wsj.com; Twitter: @paulvigna